Equity Commonwealth (NYSE:EQC) Q4 2022 Earnings Call Transcript

Equity Commonwealth (NYSE:EQC) Q4 2022 Earnings Call Transcript February 9, 2023

Operator: Good morning, and thanks for joining this call to discuss Equity Commonwealth’s results for the fourth quarter and full year ending December 31, 2022, and an update on the company. . Please be advised that certain matters discussed during this conference call may constitute forward-looking statements within the meaning of federal securities laws. Please refer to the section titled Forward-Looking Statements in the press release issued yesterday as well as the section titled Risk Factors in the company’s annual report on Form 10-K and quarterly reports on Form 10-Q for subsequent quarters for a discussion of factors that could cause the company’s actual results to materially differ from any forward-looking statement.

The company assumes no obligation to update or supplement any forward-looking statements made today. The company posts important information on its website at www.eqcre.com, including information that may be material. The portion of today’s remarks on the company’s quarterly and 2022 earnings also include certain non-GAAP financial measures. Please refer to yesterday’s press release and supplemental containing the company’s results for a reconciliation of these non-GAAP measures to the company’s GAAP financial results. On the call today are David Helfand, President and CEO; David Weinberg, COO; and Bill Griffiths, CFO. With that, I will turn the call over to David Helfand.

David Helfand: Thank you. Good morning, everyone. Thanks for joining us. I’ll review the company’s results for the quarter and the full year as well as provide an update on the capital markets and our investment activities. For the quarter, funds from operations were $0.21 per share compared to $0.01 per share in the fourth quarter 2021. Normalized FFO was also $0.21 per share compared to less than $0.01 per share a year ago. Growth in FFO and normalized FFO was largely the result of a $0.20 per share increase in interest and other income as well as a $0.01 per share increase in same-property cash NOI. Same-property NOI was up 14.5%, and same-property cash NOI was 14.9% higher compared to the fourth quarter 2021. For the full year 2022, funds from operations were $0.41 per share compared to a $0.06 per share loss for the full year 2021.

Normalized FFO was $0.42 per share compared to $0.01 per share loss a year ago. The growth in FFO was largely the result of a $0.35 per share increase in interest and other income, a $0.06 per share decrease in G&A expense and a $0.05 per share increase in same-property NOI. The growth in normalized FFO was largely driven by a $0.36 per share increase in interest and other income and a $0.06 per share increase in same-property cash NOI. Same-property NOI was up 17%, and same-property cash NOI was 19.1% higher compared to the full year 2021. At our properties, leasing activity increased in the fourth quarter. We signed 76,000 square feet of new and renewal leases. Rents on those leases were flat on a cash basis and up 3.6% on a GAAP basis. For the year, we signed 205,000 square feet of new leases and renewals.

Rents on those leases were flat on a cash basis and up 3.8% on a GAAP basis. As of December 31, leased occupancy was 82.8% and commenced occupancy was 78.7%. Turning to the balance sheet. We have approximately $2.6 billion of cash or $23 per share and no debt. Change in our cash balance during 2022 was driven by the Fed’s rapid pace of interest rate increases, our common distribution in October and our share buyback activity. Interest rate on our cash increased substantially during the year from 22 basis points at year-end 2021 to 4.5% at year-end 2022. Currently, we’re earning roughly 4.75% on our cash balances. In October, we paid a distribution to common shareholders totaling $111 million or $1 a share. With respect to share buybacks, during 2022, we repurchased 6.1 million shares at a cost of $155 million at an average dividend adjusted price of $24.64.

Since we began buying back stock in 2015, we have repurchased a total of 22.4 million shares or roughly 17% of our float as of 2014 for an aggregate of $595 million or an average dividend adjusted price of $21.73. We currently have $120 million of remaining capacity under our existing share buyback authorization. Commercial real estate is in flux and is currently trying to find a bottom in terms of value. In certain sectors, property-level performance remains strong. Other sectors have weakening near-term fundamentals. Investment sales volumes are down across all asset classes as buyers and sellers sort out the impact of the rapid change in the cost of debt capital. Since spring, the cost of floating rate debt nearly tripled while the cost of fixed rate financing more than doubled.

At EQC, we continue to work to identify a compelling investment opportunity and to create value at our existing assets. We remain hopeful that the challenges in the real estate credit markets might be a catalyst for a large deal. The team remains focused, disciplined and optimistic. And with that, I’ll turn this over to questions for myself, Bill and David.

Q&A Session

Operator: . Our first question is from Craig Mailman with Citi.

Craig Mailman: Just maybe an update here on how the opportunity pipeline looks today versus maybe at the time of the last call, and at this point, where your return hurdles are and whether you think things are going to play out over the next couple of months here to where you guys can find something to deploy the capital up to?

David Weinberg: Craig, it’s David Weinberg. Good questions. In terms of how it’s changed since our last call, I’d say not much. Three months or so isn’t enough to see much of a difference, especially at this time of year, if you’re thinking about things slowing down end of 2022 and taking some time to ramp up in 2023, which is the normal rhythm in the investment market. In terms of kind of the opportunity set overall, hurdles, et cetera, as we’ve discussed many times, it’s really about the risk we’re taking. As we focus harder on 2 sectors, which we have discussed previously, industrial and single-family residential, even more so build-to-rent communities, and we just like those, given our history with manufacturer housing parts and the ability to work the real estate.

With the long-term strong fundamentals in those sectors, we view those, absent a specific story, perhaps to be less risky and warrant a lower return as we invest, compared to, while we don’t redline anything, it’d be a higher hurdle for us to invest in something like office, just given the challenges in that space and the uncertainty going forward. And then over the next few months, hard to know. We are having conversations with large real estate owners. People are struggling with pricing, and we also are looking to whether there’s a specific catalyst in any given opportunity that might give rise to a transaction. Once again, we’re not looking to steal real estate or — for a distressed seller. We just want to get good real estate at a fair price.

But unless there is some motivation, it may be difficult to find that deal in this environment.

Craig Mailman: Okay. I know there’s been some news in the market about 1 big NTR in particular who got a cash infusion, I mean, and we’ve seen them sell some assets here as they’ve bought some recent portfolios. I mean, is there any discussion with a seller like that where you guys can offer surety of close, immediate liquidity? And I get that pricing is still fluid here, but the property types that you guys are really interested in, I mean, I don’t know that cap rates are going to gap out, given the capital chasing them and the long-term fundamentals. I mean, I’m just trying to figure out if this is a waiting for the best pitch down the middle that you guys can slam out a stadium or if it makes sense to start getting some singles and doubles.

And then hopefully, as you have some momentum on capital deployment, some of those down-the-middle pitches come where you can put it out there but at least get the ball rolling, get the market knowing that you are serious about putting the capital out the door.

David Helfand: That’s — I think that’s well said. This is David Helfand, Craig. What I would say is we are not expecting or waiting for cap rates to gap out. And I think David mentioned it but I’ll elaborate. We haven’t been and aren’t looking for some screamer of a deal that we can drive out of the park. What we’ve been looking for is the foundation for a long-term business with attractive fundamentals that can grow consistently, where we can grow the business to provide liquidity, to provide opportunity for our team. Look, we don’t need to buy that at a cap rate way wide. We just need a catalyst, most likely the debt capital markets, to provide a catalyst to a seller who can’t refinance, doesn’t have the equity to refinance, needs someone to come in and help them solve a problem. So we’re hopeful that happens. It may not happen. And of course, we’re always weighing that against what the alternative is, which is returning the capital.

Craig Mailman: How many employees do you guys have at this point? I’m kind of just curious.

David Weinberg: 22.

Craig Mailman: All right. So you guys are down to almost a skeleton crew at this point?

David Helfand: Couldn’t quite hear that.

Craig Mailman: I’m just saying, you guys are kind of cutting to almost a skeleton crew, so there’s not a ton…

David Helfand: No, there’s still plenty of muscle here.

David Weinberg: I’d say our headcount has followed our assets base for the most part. But the investments team is pretty much intact from the beginning because that’s where our energy has been devoted and has continued to be focused.

Craig Mailman: And then just 1 last 1 for me. The rationale here to keep doing the buybacks when most of the value in the portfolio is sort of a cash bounce. It’s kind of like you’re using cash to buy the cash back. I mean, should we just — why not just hold the cash at this point until you guys decide what the ultimate decision this year in terms of winding it down or deploying it?

David Helfand: That’s a — it’s a fair comment. I think it’s easy to look back in retrospect. We’re constantly evaluating the use of shareholder capital for a number of things, one of which is a buyback. And when we bought the stock back, we thought we believe we’re buying back at a discount to value and creating accretion. The buybacks have not been a main focus of ours. They’ve been a tool we can use when there’s an opportunity to create a little bit of value. But in general, we’re not here to buy back the stock. We’re here to find a deal and create a long-term business for our shareholders.

Operator: . There are no further questions at this time. I would like to turn the floor back over to David Helfand for any closing comments.

David Helfand: Appreciate you joining us today. Thank you.

Operator: This concludes today’s conference. You may disconnect your lines at this time. Thank you for your participation.